Wealthsimple valuation a wake-up call
The news this week that Wealthsimple Technologies Inc. was raising $750 million in a funding round that valued the financial upstart at $5 billion — up from $1.4 billion in October — sent jaws dropping in Canada’s wealth management industry.
What made the valuation particularly shocking is that Wealthsimple currently has about $9.7 billion in assets under management, meaning the deal valued the firm at 52 per cent of AUM, an unheard-of figure in an industry that typically sees asset managers sold for two to five per cent of AUM.
To put it in perspective, in 2018, when asset manager Mawer and its $50 billion in AUM was reportedly exploring a sale for $2 billion, it was enough to raise eyebrows.
More recently, BMO announced last month that it had sold its EMEA asset management business and its $124 billion in assets to Ameriprise Financial for $870 million in cash, an even lower multiple.
We think the valuation disconnect comes because in the robo-world the focus in still on the opportunity to scale and therefore the number of users matters more than the amount of assets.
This contrasts with the traditional wealth advisory and money management business where it’s about managing the quality and risk of cash flow by bringing assets in-house, keeping the number of clients down and the average asset size up.
In Wealthsimple’s case, they have two million users on their platform, meaning investors are paying $2,500 for each client with an average of $4,850 in assets. These figures are closer to valuations being discussed around the U.s.-based trading app Robinhood, which has reportedly seen its pre-ipo shares trade in secondary markets at a US$40 billion valuation. That is roughly double its AUM and puts a value of US$3,077 on each of its 13 million users, with an average account size of just US$1,538.
The focus on scale means many roboadvisors are offering their investment services under a loss-lead model in order to rapidly grow user count and build out their internal ecosystems. The value per user in this space, however, would inherently be much higher than in other sectors such as social media because the revenue opportunities go beyond the usual advertising model.
For example, stock and ETF trading can be offered for next to nothing as a means to layer in premium services such as banking, loans, mortgages, foreign exchange and even digital currencies. In Robinhood’s case they’re are getting paid for order flow by firms who in turn use this information to profit off of the execution by taking a large spread. This is akin to the old days when brokers would allow you to purchase a bond “commission free” but concurrently take an undisclosed spread on the trade.
Instead of selling your data to advertisers, this new model essentially harvests it in other ways, such that at times you might be better off to simply pay an upfront commission. The saying that if the product is free, you are likely the product definitely applies here, too.
Therefore, while robo-technology is democratizing the wealth management business in a similar way to ETFS, there are some risks, especially for those operating under the order-flow model.
The good news is that Wealthsimple isn’t allowed to do so under Canadian regulations and instead it is looking to disrupt the Canadian banking oligopoly, which due to complacency and size has been slow to deploy innovative technologies.
As a result, we think many of the banks have Wealthsimple in their sights, but we hope the upstart continues as an independent in order to incentivize change in this country’s financial services space.
Finally, for the traditional investment manager this should be a wake-up call as well. Younger investors are looking for the latest technological solutions and investment managers had better be ready when the generational wealth transfer starts to accelerate.
This means being able to digitally integrate premium services such as advanced wealth, estate and tax planning into portfolio management that goes beyond the vanilla equity markets.
Martin Pelletier, CFA, is a portfolio manager at Wellington-altus Private Counsel Inc. (formerly Trivest Wealth Counsel Ltd.), a private client and institutional investment firm specializing in discretionary risk-managed portfolios, investment audit/oversight and advanced tax and estate planning.